FINANCE FOR DECISION-MAKING ASSIGNMENT QUESTIONS -
Must answer ALL parts of SIX (6) questions.
Question 1 - The Australian government wants to raise more money to finance its public expenditure programs. It can issue treasury bonds to raise that money from investors.
a. If these bonds come in $1,000 maturity value per bond, what would be the market price of a five-year bond that pays $40 interest every half-year if the current market rate required by investors is 8% p.a. (compounded half-yearly)?
b. What would happen to the value of the bond if current market interest rates rise to 10% p.a.?
c. What would happen to the value of the bond if current market interest rates fall to 6% p.a.?
d. In terms of the results found in a, b and c, discuss the relationship between the interest rate and bond value and explain two factors that decide the degree of interest rate risk. (Word limit is 100 words).
Question 2 - AMC Soups Company uses the standard Economic Order Quantity (EOQ) formula to determine how frequently it will order a particular raw material. Relevant information is provided below:
Estimated usage - 10000kg per annum
Working days - 200 days per year
Purchase price - $4 per kg
Cost of placing each order - $10
Carrying cost - 40 cents per kg per annum
Delivery time - 2 weeks
Desired safety stock - 100 kg
a. Calculate the EOQ.
b. How frequently should orders be placed?
c. What is the reorder point?
Question 3 -
a. A 60% debt-financed Australian iron ore company sells its iron ore into the Chinese market. Identify risks faced by the company and specific instruments that can be used to control these risks. (Word limit is 200 words).
b. A company wants to raise $100 million to finance a project for a two-year period. Discuss the different methods available to the company and their possible risks and costs. (Word limit is 200 words).
Question 4 - The financial information for Wombat Pty Ltd is provided in the below table. Company tax rate is 30%, and no dividend will be paid out in 2017 (i.e. the net profit for the year 2017 will be reserved as retained earnings). Complete the following tasks for the company.
a. Prepare an income statement for the year ended 30 June 2017.
b. Prepare a balance sheet at 30 June 2017 in a vertical format.
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Sales
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$1,500,000
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Account receivables
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450,000
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Costs of Sales
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800,000
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Inventory
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330,000
|
|
Buildings and plants
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1,000,000
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Operating expenses
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300,000
|
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Depreciation
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80,000
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Prepayments
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200,000
|
|
Interest payments
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60,000
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Ordinary shares
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500,000
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Accounts payable
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180,000
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Mortgage loan
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400,000
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Accumulated depreciation
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240,000
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Long-term debt securities
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200,000
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Promissory notes (borrowings)
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100,000
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Retained earnings 2016
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?
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Cash
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200,000
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Retained earnings 2017
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?
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Question 5 -
a. The below information is extracted from ABC Shipping Asia Ltd's balance sheet.
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10% debentures ($100 par)
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$10,000,000
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Paid-up capital-ordinary shares ($1 par)
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$45,000,000
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12% preference shares ($10 par)
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$5,000,000
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Additional information:
- The ordinary shares are currently traded at $5.00 per share.
- The beta coefficient of ABC Shipping Asia Ltd is 1.5.
- The risk-free rate (a 10-year government bond) in the market is 3%.
- The average historical market premium for the past 10 years is 8%.
- Its debentures are priced at $102, and its preference shares are trading at par.
- The current return (i.e. market yield) on the company's debentures is 8% .
- Company tax is 30%.
- The existing capital structure is unlikely to change.
Calculate the Weighted Average Cost of Capital (WACC) of the company.
b. ABC Shipping Asia Ltd is planning to add one new container vessel to its operation for 10 years. Two container vessels with various capacities are considered. Both vessels are expected to have equal lives of 20 years. The capital cost of each new vessel can be depreciated using the straight-line depreciation method. The below table shows estimated projected sales and costs for each Vessel Project and the residual value of each vessel at the end of year 20. The vessel will be sold at the end of year 10 and the expected market value of each vessel for sale is also given in the table. The company tax rate is 30%.
The required rate of return used for evaluating the projects is the company's WACC from part a.
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Vessel 1 Project
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Vessel 2 Project
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Initial investment costs
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$15 millions
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$9 millions
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Incremental annual revenue
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$7,000,000
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$4,500,000
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Incremental annual operational costs (exclude depreciation)
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$3,000,000
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$1,800,000
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Estimated life of the vessels
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20 years
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20 years
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Residual value of the vessels at the end of year 20
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$2.5 millions
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$1million
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Market value sold at the end of year 10
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$6 millions
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$4 millions
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i. Set out the cash flows of each Vessel Project.
ii. Calculate the payback period of each Vessel Project. The company has a maximum acceptable payback period of 5 years. Which Vessel Project should the company accept based on the payback period?
iii. Calculate the Net Present Value (NPV) of each Vessel Project.
iv. Calculate the Internal Return Rate (IRR) of each Vessel Project. You can use the formula function in Excel to get the IRR but need to show the process.
v. Which Vessel Project should the company accept based on your answers in part ii, iii and iv? Why?
Question 6 -
a. Imagine that you are an Australian wine exporter who receives all payments in foreign currencies. The Reserve Bank of Australia begins to undertake an expansionary monetary policy, which will result in a higher inflation in Australia compared to other countries. Would it be wise to use forward markets to protect yourself against future losses resulting from the deterioration of the value of the Australian dollar? Discuss. (Word limit is 200words).
b. An international shipping company is expected to receive US$100,000 in 90 days from now by providing a shipping service to an exporter in the USA. The financial manager of the company decides to use currency options to mitigate the foreign exchange risk when it needs to convert the amount of US dollars into A$ dollars in 90 days. Relevant information is provided below.
- The spot rate is A$/US$0.78
- The company has forecast the future spot rate in 90 days. There is a very high probability that the US$ will depreciate to A$/US$0.83
- A put option on US$ that expires in 90 days has an exercise price of A$/US$0.81 with a premium of A$0.01.
- A call option on US$ that expires in 90 days has an exercise price of A$/US$0.82 with a premium of A$0.01.
How can the company best mitigate the foreign exchange rate risk? Why?